Selecting an Option Strategy | Market Posture | 5-9-19

[MUSIC PLAYING] Good morning Welcome, everyone My name is Cameron May It’s 10:30 Eastern Standard Time on a Thursday morning And what that means it’s time to get back into our ongoing series of discussions called “Selecting an Option Strategy.” We spend about 45 minutes to an hour together every Thursday morning walking through some of the logical thought processes that an options trader might go through as they assess current market conditions, and try to tailor a strategy to those conditions And it’s been kind of an interesting week, especially interesting over the last 48 hours or so The markets are on the move So let’s see how an options trader might pick a strategy for market conditions like today’s So before we do that, of course, we need to say hello to our returning veterans I do appreciate your attendance every week Thanks for coming back Thanks for contributing I think it helps for the educational experience for everybody involved So, good morning Is it now– help me out with this, because in Montana, it’s Helena However, I’ve also seen “He-lay-na.” So, whichever one it is, I’ve covered both my bases now Good morning to you, Jerry And Michelle, great to see you And if you happen to be here for the very first time, I want to welcome you as well We try to jam as much value as we can into our time together on Thursday mornings So, let’s get started The very first thing that we always do– quick reminder of the risks associated with our investing So, some important information– options are not suitable for all investors Spread straddles and other multi-leg option strategies can entail substantial transaction costs Any investment decision you make in your self-directed account is solely your responsibility Past performance of any security or strategies does not guarantee future results or success All investing involves risks, including risk of loss We are going to be using real examples in today’s discussion Please don’t take that as a recommendation or endorsement of any particular security or strategy And the usage of a stop order is not a guarantee you’ll buy or sell at a specific price And finally, here’s an overview of your Greeks For those of you who do administer to a self-directed options portfolio, you probably recognize the essential role that the Greeks can play in that effort So if you haven’t acquainted yourself with those definitions, you might want to do that So, let’s get right to it We have three items on the agenda today Let’s go to our Thinkorswim account As we always do on Thursday mornings, we’re going to take a look at the stock market What’s our purpose there? Well, we’re trying to narrow this huge potential field of option strategies And a quick way to do that is to decide whether market conditions seem to be primarily bullish or bearish, at least in the short term Things could certainly change But when you have this great, big spectrum of option strategies, if you can make a decision, bullish or bearish, that has the potential to narrow the field by at least half You might just think, well, it’s exactly half No, not necessarily, because there are some strategies that are actually neutral So we’re going to look bullish or bearish at the stock markets Then we’re going to move to step 2, determining whether we’re going to use a long strategy or a short strategy to pursue those market conditions or position ourselves theoretically to benefit from those market conditions if they persist And then finally, we’re going to ask ourselves a final question Are we looking for a stronger probability of success with whatever remaining candidates we have, or are we looking for higher reward potential? And thank you, Ricardo And good morning Welcome to you as well But through the accomplishment of these agenda items, the next time you’re attempting to select an option strategy in your paper money account, at least you’ll know a process that could be employed All right, let’s do it So, let’s have a look at the S&P 500 That’s the index that we use on Thursday mornings You might use your own preferred index, maybe the Dow or the NASDAQ, or who knows, a Russell, combination of all of the above But we’ll just use the S&P. We’ll let that act as the stand-in for what the stock market is doing All right So, yeah The S&P, like the other major indices, taking another bruising today So a couple of days ago, we had a strong down day Yesterday, still down, just not really a dramatic down day But today, S&P down about 40 points, down about 1.4% percent as we speak And so, here we are My question to you– and this may be a question that an options trader may be asking themselves I would imagine it’s quite likely there are a lot of options traders asking themselves

right now, maybe as they’re planning to add a new position to an existing portfolio or even theoretically to manage an existing position But let’s look at this through the lens of selecting an option strategy What kind of strategy? So, here’s the question Where do you think the stock market– well, let’s be more specific than that Where do you think the S&P is likely to be five business days from today? Seven calendar days from today? When we come back next Thursday to take another look? Do you think the S&P is likely to be about where it is right now? Is it going to be higher, or is it lower? We’ve had a bit of a sell-off Have we sold off far enough? Are we about due for a bounce? Or do you think that this downward momentum is likely to persist? Well, only time will tell But maybe there is a lesson in history, right? Let’s take a look at what we have at this moment And what I want to do is kind of look back at recent history Look back in time You can see that we’ve had this upward trend And then we’ve gotten some fairly stronger selling activity, some bigger candles taking this downward Does this look at all familiar? Let’s come back to this period stretching back to– what is this– early October And in the months leading up to that, we had a pretty persistent upward trend And then we got the first signs of bearishness And in that case, that bearishness did persist, although there were some certainly some hiccups to the upside in the meantime We had a consolidation for a couple of months and then continued downward Now, is the fact that that’s happened historically a guarantee that that’s exactly what’s going to happen right now? No What are some of the contributing factors fundamentally to what’s happening on the stock market? Well, I think right now the major headlines seem to indicate that it’s the tensions between the US and China, right, on the trade front OK, so, Michelle is saying, it’s going to go down a bit more, then be back where it is next week All right Dom says it’ll come back, but not above current That’s interesting So we have two votes for maybe some bullishness, right? A sort of neutrality to bullishness, right? Now, can you trade options that would benefit from those sorts of developments? Yes, you could, right? But this is the sort of question that an options trader has to grapple with And sometimes, it can seem like an easier question to answer than others What do you think? Should we go for– well, let’s look at our history lesson here You can see, we did have kind of a stronger down day We haven’t seen anything quite like that yet This was a pretty strong down day right there on the S&P on October 10th And October did have that reputation The reputation proved accurate this year, at least It has that reputation for being kind of a dark month for the stock markets Yup Michelle says, that is if we get some resolution tomorrow in China, right? Yup They’re still sitting down at the negotiation table Let’s see what happens there There are certainly other influences that could play a role in what happens with the stock market But we’ve got to kind of make a decision If we’re going to take a new position, if we are going to select an option strategy, are we going to do a bullish one or a bearish one? Diane says, who knows? Diane, yeah We don’t know exactly, do we? Only the collective wisdom of the stock markets is going to tell us after the week has already gone by what that week ultimately held Yes, Jerry says there is also a concern about Iran right now You can see that they’ve been dialing back Well, not dialing back– they’ve been pulling back from some of the agreements that they made We’ll see OK, so, this one’s a little bit harder, right? Let me just clear off this drawing set And how about until the technical evidence entirely tilts the opposite direction, what if we assume, for example’s sake, that we’ve accomplished our pullback Maybe there is another day or two down, as Michelle proposes And then we get a bounce up So generally speaking, let’s say that we maintain that bullish outlook So we’ve had a look at our stock market Is that the correct answer? I don’t know There certainly could be a difference of opinion But let’s have a look at the next question that an investor might ask themselves as they’re narrowing that field of candidates

We just cut that field by half at least, maybe more than half Should we go long or short? Now, there’s kind of a quick answer to this, but it may not be a perfectly accurate one Let me ask you, if you think that the stock market is likely to go up, what’s likely also to happen with the general pricing of options? Well, they’re likely to go down, right? There’s kind of an inverse historical correlation that’s pretty strong between stock market moves and the general pricing of options Now, if you were just to persist with that logic– and there is some logic to it– then it would sort of naturally always lead you to conclude, well, if I’m bullish on the stock market, then that means that I should be bearish on options prices And therefore, I should be a seller of options And you add x to y there, and you wind up always, whenever you’re thinking bullish, maybe I should just always be short options– taking short, bullish strategies On the flip side of that, when you’re bearish, you might assume options prices will rise So that might lead you to conclude that with bearish positions, they should always be long, like for example, buying long puts Let’s go get some additional context to that I did want to illustrate that point That was something– it occurred to me I hadn’t really discussed that in my earlier sessions But here is what we’re looking at, all right? Last time we met, look at where volatility index was We were much lower than we are right now And as the markets have been selling off, the volatility index has been on the rise And this index is commonly used as an indication of the general pricing of options So, options right now– this is generally speaking, not across the board 100% But broadly speaking, options prices are much higher than they were last week So, what does that tell us about maybe buying options last week? Might have gotten a bit of a tailwind from the pricing of options if we were a buyer Well, so now, should we be a buyer or a seller? Once again, we’re confronted with a little bit more of a difficult question that maybe we’ve had in recent weeks Options prices being much higher than they were, this could be one of those scenarios where, OK, now, when we take the fact that we’re bullish on the stock market, and now we have more room to the downside for movement on the options pricing, OK, it might be a little bit more logical to consider bullish short positions Whereas if you’re bullish down here, yeah, prices might fall But there really, at least in that historical context, wasn’t as much room for prices to fall as there is now, when volatility is twice as high as it was a week ago So, Gordon– there you go Gordon’s saying we should sell options due to the higher prices, right? OK, so for that, having gone through the stock market and paired that up with what I call the options market, this is not– I always like to make this point too When you bring up the VIX, this is not explicitly called the options market by every trader However, I think it– well, and this is not me thinking This is also just commonly used to get a gauge of the general prices of options So they call it the options market I don’t think is necessarily a misnomer, although it’s unique to me You won’t see other people necessarily calling the VIX the options market Anyway, so, for our trade today, we’re going to– and this is, I’m going to have to say again, do a short bullish position I try to mix it up from time to time But sometimes when you conclude what you conclude, then you might wind up placing the same or similar trades for some period of time All right Now, the final decision as we move through our list of questions is to decide, are we looking for a greater probability of success, or do we want greater reward potential? Hm Now, this is a question that only the individual investor can answer, because it may be a personality thing where some investors will look at two trades One will have large reward potential The other one has a higher probability of success And they’ll gravitate naturally to one– like, let’s say they go to the higher probability of success This is just in their nature They don’t like to take maybe the larger

risks that might be associated with the larger reward potential Others, though, would say no, no I’m confident in my analysis of markets And I’m going to go for that greater probability of success because if my plan works out, why not maximize the reward potential? So, that’s a decision that only you can make But let’s start to piece the pieces of the puzzle together Bullish strategy– so, that could be either buying calls or selling puts, right? Of the four most basic options strategies– buying and selling calls, buying and selling puts– those are the two that are left on the table, right? Well, we just decided that we’re going to be shorting So that is a selling put strategy, or some variation on that theme Jerry says, I prefer a greater probability of success All right, Jerry Yeah, well, let’s look at both of them I’m going to– let’s build a few theoretical trades How about we– let’s see if we can squeeze in three example trades, OK? So we’ll do Example Trade A, which is just going to be maybe a cash-secured put, or what we call just a short put, OK? Example Trade B will be a high probability, short put vertical And then how about for Example Trade C, we do a high– and actually, let’s do this High probability And I’m going to use the phrase, higher and lower OK, there we go Higher probability, lower reward, short put vertical Now I can just copy this, paste it in right here, and just reverse things So this one is going to be a lower probability, but a higher reward short put vertical And so this is– we’re going to be going into what some investors might think is non-traditional territory Because when you think about a short put vertical, what sort of probability typically springs to mind for you? Because I’ll tell you, short but verticals are no more intrinsically higher probability or lower probability than long put verticals Or credit spreads are no more intrinsically higher probability or lower probability than debit spreads, right? But what might spring into mind for you– oh, if it’s a credit spread, that’s higher probability, isn’t it? Not necessarily But let’s start with our short put, OK? Let’s find a stock, first of all, that appears to have a similar technical outlook to the S&P 500 So we’re going to come to our S&P 500 stocks Let’s maybe stay in the triple digits here and just start working our way through There’s CME Group From a technical vantage point, it looks like it might still be in a bit of a downward trend Edwards Lifesciences– a bit of an upward trend I don’t remember which class– where we were discussing this, but obviously that was a recent review Let’s move on to maybe find something that doesn’t have analysis already applied to it You can see that’s kind of difficult to find, because I tend to look at a lot of stocks Accenture? Mmm, maybe You can see I’m doing a pretty quick analysis here What about Autodesk? Let’s get rid of all this This is outdated stuff Let me clear off this drawing set so we get a nice, clear view A technician might look at a stock like this and see a couple of things First of all, we’ve had an upward trend since Christmas That’s actually right in keeping with what the S&P has done The day after Christmas is where the S&P started its rally But you’ll also notice we’ve pulled back, just as the S&P has But look where that positions us with Autodesk Not only are we at the ascending area of support, we’re in an apparent area of support on a trendline We also look like we might be using an old resistance, or an old price ceiling, as a potential new price floor And it’s done that before There were a few hours where it was able to penetrate down through that floor, but they came right back up above And we’ve spent, really, the last three weeks above that level Got a little bit below it little bit earlier in today’s trading session That looks like that might be holding So, how about we–

let’s check Autodesk As I move to the option chain to set up these example trades, you veterans, where do your eyes go first? When you have a stock and maybe you haven’t looked at it recently or haven’t looked at the options on it recently, why don’t you tell us? Your eyes just go maybe to the spread between the bid price and the ask price to see, OK, how are these things priced? Is there a big chunk going to the market maker, or is it kind of narrow? Is there are a lot of liquidity, or is it comparatively smaller or lesser liquidity? That might be the case I think what we’ll do for today– let’s just continue with Autodesk as our example But I did want to point out– yup, some traders will take a peek at the spread between the bid price and the ask price to get a general feel for the liquidity Generally speaking, the wider that spread as a percentage of the cost of the options or the trading price of the options, the less liquid that option is likely to be That’s not a guarantee, but that’s a general guideline Right, so, let’s start to build a potential trade How about if we were to just sell a put, that’s a bullish strategy It’s also short So it’s in keeping with both of our convictions for the stock market and the options market So we could just come here and say– we could sell at $170 put, at $165 put, at $160 How do you make your choice? Well, if you’re looking at your stock, and you are confident that the stock is likely to bounce off support and rise, then that might lead you to sell, let’s say, a more expensive option You get a pricier option if you start to go in the money with that trade If you’re going in the money, that’s reducing the probability of success on the trade, at least mathematically Because in order for a short put to be optimized, we need the stock to be– we need that option to be out of the money as we approach expiration, right? But how about for this one, let’s use our Greeks as a general guide Delta may give us an indication of a mathematical likelihood of success on the trade– at least, success being defined as the option just expires out of the money And let’s say that we were to do example trade A, sell the $160 put And how about we– let’s make a note of the date as well, 21st of June And how much is that trading for? We saw that put It’s trading for between $6.25 and $6.45 Let’s say that we sell it for $6.35 So, that is one potential bullish strategy that might be employed I’m going to quickly cover the pros and cons of this strategy But if you feel like you need to revisit these concepts in greater detail, if you’re not really comfortable with options, you’re at the front end of your learning curve, then great I think that you have a fun journey ahead of you as you get that education But a good starting point may be to go to Barbara Armstrong’s class after this discussion She picks things up at 11 o’clock Eastern Standard Time and teaches a class called “Getting Started with Options.” All right, let’s see OK Yep, all right So, thank you I’m getting some more input on just where your eyes go first when you’re looking at this option chain Perfect OK, but just to quickly revisit what we’re doing here, if you’re doing a short put, we’ve now entered into a contract where we have accepted a payment– theoretically, again– of $6.35 per contract in exchange for giving our promise where we’re contractually obligated– someone now has the right to sell shares of Autodesk to us for $160 a share, really, no matter what they’re worth I will do that Let me get rid of that That was redundant It was indicating that we did 160 contracts We’re not We’re doing– just talking through, theoretically, one In any case, If the stock is worth less than $160, we’re still obligated to buy at $160 Where do we want it to be? We want it to be greater than $160 What that do’s– does– do’s, wow What that does is it reduces the risk of this contract being assigned Now, the assignment risk remains throughout the period of the contract, really, regardless of where the price is But obviously, that risk goes up if the contract goes in the money, in other words, if the stock falls below our obligation price, or as we get closer to expiration

If you’re in the money and closer to expiration, that can dial up that assignment risk All right, so there, you do have the ability to customize reward versus probability of success, even with an individual strike And we’ve already seen that here How can we increase the probability of success on this trade? Well, instead of selling at $160, we might get ourselves into an obligation to buy shares at $155 And the likelihood that the stock is above $155 at expiration is greater than the likelihood that it will be above $160 at expiration The trade-off there, though, is look at your reward potential We go from $6.35 to below $5 So the greater the probability of success on the trade, the lower the potential for reward on the trade OK, Jerry says, why do you pick a date greater than 40 days out rather than a shorter time period? Very good question again And I kind of skipped past that, right? There are some times where I make it the entire focus of the class to talk about expiration, because it can be kind of a complicated concept But generally speaking, I like to use exaggerations to illustrate a point Here’s what I would love to do, right, Jerry? Here, I would love to pick an option that’s way out of the money that expires in five minutes, and sell it for a huge premium, right? I’d love to find that Because then if you have a really high probability of success and you’re getting a great, big payment for it, and almost– anyway, that’s good enough I mean, that would be a great combination of factors But can’t get that What we’re trying to balance is– we obviously can’t sell something that’s going to expire in three minutes from now and get a big premium So how far out do we need to go in time in order to get a, quote unquote, “big premium”? First of all, what’s the definition of a big premium? That’s in the eye of the beholder But here, I’m getting paid theoretically $6.35 We’re collecting an initial credit of $6.35 for this obligation to buy shares for $160 for the next 43 days If I say I don’t want to have that obligation for 43 days, I want to go for a shorter frame, let’s go to a more extreme example and maybe go for a one-week contract This one that expires next Friday Do the same deal, the $160 contract How much are we getting paid? We’re not going to get $6.35 We’re not even getting $1.35 So, the risk goes down the closer you get to expiration, but so does the reward So that is another potential way to tailor your trade-reward potential versus probability of success So, is there a right or wrong answer here? No Some investors might be perfectly happy with only putting themselves on the hook for eight days and settling for $1.30 or $1.25, versus going out there to 43 days and getting $6 and change You just weigh that out to you OK, Gordon has a– this is a rule of thumb that Gordon might use He says a 30% return-on-risk rule of thumb, or 1% per day Now, that is a higher probability approach For some investors, that may not be nearly enough, right? If they’re more confident, they might go for a much higher return Yeah, but you just decide for yourself what your acceptable return on risk might be over the course of whatever number of days you’re in a contract All right, so next up, we have trade B. Let’s do a higher probability, lower reward potential put vertical Obviously when you sell a put, if that’s it, if you just sell that put and you don’t cover it with another contract or some other way that you’re covering other than cash, the risk potential is pretty great, right? We have an obligation to buy shares for $160 Do we know at this moment, if we were forced to buy those shares, how much we could sell them for? At that moment, whenever we happen to be required to buy the shares? Nope, we don’t have any idea So a trader might say, all right, I’m going to take on the obligation to buy shares at one price But I’m going to make sure that I have the ability

to sell those shares at another fixed price And then in exchange for that, I’m going to spend a little bit of cash So, how about we look at the $150 option? So, we’re going to do the same thing, start our trade There we go Sell that 21st of June $160 put But at the same time, what if we were to buy– let’s do– I said the $150 Let’s do $155 21st of June and $155 put And that might bring in some or pardon me– it might cost us somewhere between $4.75 and $4.95 We’ll call it $4.85 OK, so we’re receiving a credit on one side of this position, spending $4.85 on the other side So what are we left with here? We have a net credit, or a maximum gain now, is $1.50 What’s the maximum loss of this trade? Well, when calculating the maximum loss on a vertical on a credit spread, you take the distance between your two strikes and subtract your net credit So, that would be $5 minus $1.50 That’d be $3.50 is your maximum loss So, yes, you really are looking at a scenario where there is the potential for $1.50 gain versus maximum loss of $3.50 Some of you might say, why would I ever do that? Gordon might be looking at this and saying, well, here’s what my math says Hey, I’m making $1.50 potentially on my $3.50 risk That’s a 43% reward in 43 days Gordon’s rule said 1% per day Does that meet Gordon’s rule? Now, am I saying that’s my rules? Am I saying that should be a rule? No I’m just showing you how the math might be accomplished if you have your own guidelines like that Yep, that one might work perfectly well for some traders So, this is a lower reward And I think you can see that when the reward is lower than the risk potential But the probability of success is actually pretty high What’s the likelihood of actual success, making the 43%, if you were to just put on this trade and then cover your eyes and let it go all the way to expiration? Well, using delta as a guide, there’s about a 34% chance that the short option may expire in the money Or in other words, there is about a 66% chance that that short option would expire out of the money If it does, the long option will expire out of the money by default. And that’s when the maximum gain of the trade is realized With your credit spread, you want the whole thing to expire worthless Well, at least that’s the best-case outcome for this trade So, yeah, higher odds of success, probability of success– I would say probability of max gain is– what did we say, 66%? And a return on risk of 43% So is that a higher probability, lower reward put vertical? Yeah Let’s compare it to another put vertical And this one, we’re going to be a little bit more aggressive I think for some traders, this may be, at least in their eyes, so nontraditional– “nontraditional.” I don’t know why I made the crazy sign I don’t intend to say that But this may be a bit of a logical departure from what you’re used to What if we were to sell an in-the-money put to start out our position? So, let me grab our format here But instead of selling the $160 put, we sell the $170 put Well, that should generate a credit between, let’s say, $10.35, $10.55 Let’s say $10.45 OK, so we can already see larger initial credit And now let’s spread this thing out a little bit Let’s buy the 21st of June– instead of the $155, what

if we say maybe the $160 put? Now, that $160 put when compared to our $170 put is going to cost less I just saw it was a $6.25 by $6.45 Let’s say at $6.35 So, initial credit of $10.45 We spend $6.35 What’s the max– what’s the net credit here? Or the max gain of this trade? It’s about $4.10 Now, the calculation for the credit spread remains consistent When you’re calculating the maximum loss, you take the distance between your strikes and subtract your net credit So in this case, the maximum loss on this trade is going to be $5.90 So we take $10– that’s the distance between your two strikes– and subtract your net credit Once again, if you catch me– I always throw out this reminder in my classes If you catch me making a mathematical error or even just a logical error, make sure to call me out on that Because it can happen when I’m trying to type and do calculations in my head and everything and talk at the same time In any case, what’s the return on risk here? Well, if we have $4.10 of potential reward versus $5.90 risk, you can see there’s not nearly as much of a disparity there Let’s come back to our calculator $4.10 divided by $5.90 is going to be a 69%, approaching 70% I’m going to round that just a little bit But I’m going to call it 69% reward So, is this a higher reward vertical spread? Yep 69% return on risk if the trade goes as planned What has to happen for this trade to work out optimally? Well, the stock needs to be above $170 as you approach expiration And as you hit expiration, where is it right now? It’s at $168 and change So it has some work to do With the other trade that we constructed, we needed to be above $160 And the stock is already well above that It’s already $8 and change above that With this second trade, it still needs to go up Not a lot– you know, about $1.60 right now But that’s still enough to make the probability of success be below 50% Because the stock could go up It could go up that $1.60 And it might do that readily, right? If it does, then we might be in good position to benefit if we can hit expiration But there’s also the chance the stock might go down So what’s the probability of maximum gain? Without even looking at my Greeks, I know that mathematically it’s going to be less than 50/50 Because we could go up We could go down And this requires not only that it goes up, but it goes up a specific amount All right, so what is the probability of success on this trade? It’s about– well, here’s about a fif– yeah, it’s right about 50/50 You can see that our probability of this option expiring in the money is going to be right around 50% The probability of expiring out of the money, about 50% Gordon’s saying we have earnings between now and then That’s interesting Can that change our probabilities? Yep, it could It could That’s still built into the calculation here But an earnings announcement can drive a stock up or down, and it can do it dramatically So maybe what might happen is we just wind up having our answer sooner than we anticipated So, now, some traders will look at that And they’re not comfortable with trading over an earnings announcement That’s fine That’s up to you If that is a concern, then you definitely want to keep an eye Quick way to check that when you’re on your charts and you’re analyzing a potential trade, just look for these little icons down here So you can see right there– that’s what Gordon’s talking about So if we wanted to bypass this earnings and still stay with the same stock, still stay with the same menu of strategies, what might we do? Well, this is where we might go to that closer expiration Yup But you could still look at– you can still find trades that are lower reward potential,

higher probability of success, versus higher reward potential, lower probability of success, even in those eight-day contracts But for today, let’s just finish out our probability of maximum gain It’s sitting right around 50% And this really actually surprises me a little bit to see that it’s slightly above 50% When you see a delta, the assumption there is it’s telling you that the likelihood that that option will expire in the money to some extent by at least a penny The flip side of that is you can then calculate the likelihood that it will expire out of the money Now, another metric that might be used in place of delta is– and this is kind of going more directly to it Let’s come up here and borrow our gamma column And I’m going to go to Option Theoreticals and Greeks and go to the probability out of the money If I select that, this is more in line with what I expected Now, probability of success on this contract– I would say it’s probably more likely around that 45% mark Delta can be used as a general guide But when you look at delta versus probability out of the money, there will typically be a percentage point, two percentage points, three percentage points disparity between those two So, just to pick a random strike as an example, if we look at our $155, the delta would be guesstimating that there’s about a 73% chance that this contract will expire out of the money, versus probability out of the money is actually projecting about a 67% chance Both of those are trying to calculate something that hasn’t happened yet It’s not going to happen for 43 days So, yeah, approximations are what we’re working with, whichever one you’re using OK, but the bottom line is one of these strategies is going to have a higher probability of success The other one’s going to have a lower– in comparison, lower probability of success And as the probability of success goes up, typically the reward potential goes down, and vice versa So you can– one of the hidden potential advantages of option strategies is that you can customize the reward and risk scenario to suit your preferred approach So if you have specific guidelines like Gordon, you can run some numbers and see if it fits your guideline If not, you may have to reconfigure a trade, move to a different set of strikes If it does meet your trade, great– or your trade rules, you go ahead So which one should we do for today’s discussion class? Shall we do just our flat out short? Keep the whole premium, recognizing that’s going to come with a larger margin requirement and all of those things? Shall we go for the higher probability trade, or shall we go for that lower probability, higher reward? How confident are we that Autodesk is going to be higher as we push toward June? One more glance at those charts Maybe what I might need– let me help you visualize this a little bit more Let me come into my expansion settings, add just a few more price bars so we can see that June expiration So, here’s what we’re targeting How confident are we that the stock is going to be above this level? Does that look like we might get a bounce and just be up here? If that’s the case, maybe we go for that higher reward trade Or do we want to put a trade where, as long as the stock is above this level, then our trade will be optimized at expiration? How about for today, let’s go for that lower probability trade, the higher reward We don’t always do that I think we’ll illustrate that for today So let’s go for the $170 Maybe that $170– what do we do? The $170, $160? So, we’re going to sell the $170 I’m just going to click on the bid price to create a sell order for that Then I would come up to the $160 and hold down my Control key, and click on the ask price, and that completes our credit spread There we go Oh, look at that, Dom Sorry, I got out just ahead of you Michelle says C. Dom said B. We had a toss-up All right, I made a quick executive decision there So, let’s put on this trade

And each contract is going to be about– remember $590 of risk What if we say we’re willing to risk about $2,000? That’s going to be around three or four contracts Let’s maybe dial this down to just four contracts That’s going to be a little bit more than $2,000, OK? And for our credit, I’m going to back off that midpoint credit requirement Let’s submit a limit order of $4.10, which is what we originally calculated As you backed away from that midpoint, as you’re offering to settle for a lower credit, that may improve your odds of getting a fill Although any time you submit a limit order, there’s a likelihood– there’s a chance that your order doesn’t get filled But let me click Confirm and Send And here are the details of our trade– $1,640 of potential gain, $2,360 of potential loss That’s going to be right at our reward to risk that we calculated We’re doing a multi-leg strategy with multiple contracts, so that has a multiplying effect on the transaction costs of the trade, right? So that’s certainly a consideration Keep an eye on those transaction costs And since we’re selling our short put now in the money, what’s that doing to the assignment risk right from the start? Assignment risk is going to be elevated So there are some other things that we want to bear in mind as we place this trade Because assignment could really happen at any time between now and expiration So, let’s send this order off And we got it Sold it for $4.10 So actually, our execution lines up very neatly with the plan for this trade So, we’ll see how this goes in the coming weeks But, class, we got a lot accomplished in our time together today We discussed what’s happening on the stock market and how that might help us make a decision between bullish and bearish strategies, what’s going on with the options market and how that might lead us to make a decision between long and short positions, and then we’ve weighed in good detail the probability of success of a trade versus the reward potential for a trade So when you are next confronted with that huge spectrum of potential options strategies, hopefully you can see how quickly that that spectrum can be narrowed to one that suits your view of the stock market and the options market, and that fits your preference for risk versus reward That’s it Time for me to set you loose Do join me next time We’re going to be emphasizing the usage of the Greeks in strategy selection So, I’m looking forward to that discussion We’re going to take a little bit of a break in our broadcast day But as I mentioned, we’re– or you know what? I actually said that Barbara Armstrong follows me today for “Getting Started with Options.” No, she doesn’t That’s Friday, OK? So, I think earlier in the session, I said it was today at 11 o’clock It’s not today 11 o’clock It’s Friday at 11 o’clock But I still think it’s a good starting point if you’re just getting started with options So today, actually we have coming up on The Splash– Mike Follett’s going to be presenting on forex and futures There’s a forex and futures focus every Thursday So if that plays a role in your investing or if you’re just intrigued by it, Mike Follett brings a lot of experience to the table He always does an excellent job, so I’m sure you’ll enjoy that presentation As for now, I have a suggestion for you If you’re just getting acquainted with vertical spreads and you’re not really sure how the reward-versus-risk scenario plays out at different strikes, go to your paper money, pick your own stock as an example, and then build an out-of-the-money short put spread, and compare that to an at-the-money or even an in-the-money short put spread See what happens to your reward See what happens to your risk Should be a great additional learning experience And it helps to cement the concepts that we’ve covered today All right, Gordon says, am I around tomorrow? I am Yep, Gordon I’ll be here tomorrow So, everything is– I’ll be teaching everything as scheduled And I’m looking forward to it So you can join me tomorrow morning I actually teach a class that’s called “Managing an Options Portfolio.” it’s at a little bit more of an advanced level If you want to join me there, that’d be fantastic But I’m going to set you loose I just pushed out the link to my survey For those of you who fill it out every time, I definitely appreciate that It really helps us with improving our webcasts If you haven’t filled out a survey before, you just click that link right now while the session is live And then it takes you to a one-page,

five-multiple-choice-question survey So it’s just click, click, click, and you’re done with the survey It’s only a few seconds, but it’s very helpful So, thanks for doing that Everybody, quick reminder of your risks Risks are real We used real examples in our discussion today There’s not a recommendation or endorsement of the securities or strategies discussed And the usage of a stop order is not a guarantee that you will buy or sell at a specific price All right, well, I will see you That’s it for today I’ll see you next week We’re going to be using Greeks for selecting an option strategy Gordon, thank you You say great session I say great input Thanks for the participation It really helps I really appreciate that Everybody, have a great week If I see you tomorrow, fantastic If I don’t, have a great weekend And whenever I see you again, until that moment arrives, I want to wish you the very best of luck Happy investing Bye-bye [MUSIC PLAYING]